IPOs can provide investors with some of the largest short-term gains in the market if shares are are priced correctly. As of February 2017, the last 100 IPOs have produced a total gain of 30.5% since inception. Quite often, much of that large gain happens on day one. For example, Twilio Inc (NYSE: TWLO), one of the most popular IPOs of 2016, rewarded investors with an incredible 92% gain on its first day of trading.
It can be extremely difficult or nearly impossible for a retail investor to get access to shares of a new company at the IPO price prior to public trading.
For example, Twilio’s IPO shares sold for $15, but the stock opened its first day of trading at $23.99 and never looked back. So public market investors were only able to capture a small fraction of Twilio’s initial gain.
This happened because the public does not get first access to IPOs. Instead, institutional firms with connections to the underwriter can get a first crack at investing if they want.
For a retail investor to gain access to IPO shares, they will almost certainly need to have an account with the IPO’s underwriter. Most of the largest IPOs are handled by the biggest names in the banking world, such as Goldman Sachs, Morgan Stanley and JPMorgan. But in addition to opening an account with one of these underwriters, a retail investor will have to show the they trade frequently and with a significant amount of money.
Investment bankers are looking for large clients to buy up big chunks of IPO shares at a time. That makes their lives much easier. They would rather make 10 sales of 100 million shares than 100 sales of 10 million shares. For an individual investor to get access to these first shares, they need to have a minimum account balance between $100,000 and $500,000.
Investment bankers also typically have additional requirements for access to IPO sales. Those requirements may include a certain amount of trading experience, a long-term history of doing business at the bank, or a track record of active trading.
Unfortunately, for the vast majority of small-time retail traders that fall short of those requirements, there are few alternative routes to buying shares of a company at the IPO price.
Sometimes, other publicly traded companies will have large private investments in a company prior to its IPO. Prior to Alibaba Group Holding Ltd (NYSE: BABA)’s IPO, Yahoo! Inc. (NASDAQ: YHOO) held a more than 15% stake in the company. GSV Capital Corp (NASDAQ: GSVC) currently has a large stake in Snap Inc, which is expected to be the hottest tech IPO of 2017.
This method of investing in other investors doesn’t typically provide a pure-play on company prior to its IPO, but it might be the best way for retail investors to have a horse in the race from an IPO’s first price.
Disclosure: the author is long BABA.
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